tv Bloomberg Real Yield Bloomberg July 21, 2018 2:00am-2:31am EDT
♪ >> with a 30 minutes of dedicated to fixed income, live from jp morgan asset management in new york, this is "bloomberg real yield." ♪ jonathan: coming up, stepping on the fed's independence. president trump pushing back against higher rates. chairman powell testifying that gradual interest rate hikes will continue for now. and meeting presidential resistance. the dollar rally and the u.s. struggling to find stability. we begin with a big issue, stepping on fed independence. >> ultimately it puts into question what the stature of the fed is, and fomc and their ability to maneuver. >> the federal reserve is not
going to react to tweets from the president. they don't need to. >> it is a strong institution, and they have staying power. i don't think it will have a big impact on them. >> it is time to move rates back to normal. i think they will continue on that path. >> if people start to feel the fed is going to kowtow to the president and allow the economy to grow too fast, overheat inflation to go up, interest , rates will rise. bond vigilantes will kick in and rates will rise, which is what the president does not want. or maybe the fed will say to show its independence, it will preemptively raise rates. either way, the president is shooting himself in the foot. jonathan: joining me now from jp morgan asset management, bob michele and lisa coleman, the firm's head of global investment grade corporate credit. i should say thank you for inviting me over again. >> great to be back.
jonathan: the federal reserve pushes back against higher interest rates. does it change anything? bob: it doesn't. the fact that you have tweets today and yesterday tells you how independent the fed is. i think it is a complex question. certainly, the president gets to appoint who they want as the fed chair, so they pick someone reasonable and moderate like jay powell. they know kind of what they are going to get. i think it was a good appointment but he is on his own , now. i think he has laid out a very credible path going forward. jonathan: it's safe to say that the president's tweets have had more impact than what is happening with fed progress. what is happening with the treasury curve? it has been flat and then all of a sudden we get steepness during the week. bob: there are a couple things going on. certainly there is a belief the fed will stick to the rate path that we will see increases every other meeting for now. great set of words, but i think also there has been news out of
japan that the bank of japan may tinker with its optimal yield curve control. so they may let the long end go a bit and be supported by market forces. jonathan: lisa, perception is everything. if it wasn't under a close watchful eye of the market, it is going to be much more so now for chairman powell. does his job get more difficult because of the president? regardless of what you think he will or won't not do -- will not do. lisa: i agree with bob. i think the fed will continue on with its independence. chairman powell has a path, and that won't change as a result of the comments from the present. jonathan: we have gone back and forth on what happens with rates. you think yields are going higher. you think yield could have a handle on the 10 year within 12 months. walk me through where we get from this really tight trading range we have had on 10 year yield and treasuries, and how they get to 4% over the next 12 months. bob: 4% is only 100 basis points from here, and it is against the backdrop of the fed having
raised rates for two and a half years, indicating they will go for another year. so that is a lot of upward pressure in the front end of the curve. does it look reasonable to buy treasuries with a sub 3% in 10-year? i don't think so. we have huge tax reform and just starting to work its way through the system. it is not fully into the system. you have got a tremendous amount of treasury supply that will hit the market over the next 12 months. -- so i step back and i think a good stopping point for the fed is june of next year, 2.75% to 3%. it will look like a good place to stop, but the economy will do great. jonathan: you mentioned that the issuance story. the bulk have been at the front end. the overwhelming consensus of pretty much everyone coming from the program is that the curve will flatten. it might even invert at the back end of this year. so you are not only looking to 4%, but looking for steeper argue -- curve,
aren't you? bob: looking for a steeper curve. you are right, there has been a lot of front end issuance. i think the treasury has made it clear that they are going to maintain a 70 month weighted average maturity on portfolio of outstanding debt. if they are issuing on the front end, the back half has to come over the second half of the year. by the way, curves have flattened before and have inverted and it has not led to recession, and they quickly re-steepen. 1994 to 1998 comes to mind. which is a similar environment. that was the environment post the snl crisis and we had bond s outstanding. the market continued to heat and the economy continued to heat up into the dot-com bubble. jonathan: in bob's world, sooner or later, i'm going to get 4% in -- on a treasury. why would i want to buy credit, lisa? lisa: because you have a good underlying economy going on. it depends on where in the credit market you are going to buy. so let me give you a couple of examples.
if you look at triple b rated credit, you might not want to spend a lot of your risk budget there because this is an area where we have seen a lot of m&a issuance and companies have levered themselves up. maybe what you want to look at is double b. double b credit this year has really underperformed other parts of the high-yield market. yet, with the good economy, the balance sheets look good fundamentals look good and , valuations are attractive. jonathan: some of the cfos have an incentive to run a triple b balance sheet, don't they? the yield pickup, going further up in quality. lisa: this is been the problem. if you look at the amount of m&a activity we have had this year, we are on pace for a record amount of acquisitions. you are right. companies have no incentive to run the balance sheet at single-a. that is why i like to double be -- that double b part of the market. these are companies not making acquisitions. the fundamentals look good and you are getting paid a spread per unit of leverage more to
take those companies than the triple b rated companies where ceo's are pouring on more debt to make acquisitions. bob: that is some of the disconnect in the market. you're talking about the 10-year should flatten and invert, sub 3%. 2-handle, so it is a mindset that people are used to 10 years of secular stagnation, investors and bond buyers. you hear corporate america has made the shift, preparing for a growing america again. not one in stagnation. they are going to take advantage of the growth and the stimulus. jonathan: the difference this time around and what everybody is thinking about the moment the , two americas levering up. -- at the same time -- levering up at the same time. one is corporate america, and the other is the sovereign at the same time. it could be a toxic mix. couldn't it?
bob: ultimately, it could end bad. i think that some of the angst coming out of the tweets, at a time borrowing is going to go up, why would you want borrowing rate to go up? the other way to look at it is the opportunity is now. you still are at relatively low levels of interest rates. there is plentiful liquidity. you are having structural reform through taxes. , youill get a fiscal spend may get some deregulation. let's borrow and jumpstart the economy. jonathan: what does it say that we are having these conversations when the federal reserve is still considering monetary policy to be accommodative? they are nowhere near neutral in the minds of a lot of people, and the real rate is barely positive, and yet we are still having these conversation about risks and markets. what will we be talking about in 12 months? bob: 12 months from now i think we are going to say this is a good place for the fed to pause. there is some digestion going on. we will see what corporate america does with the leverage it supplies, what it does with
the repetitive benefit of tax reform. we will have to look at what the bank of japan is doing. has the ecb begun to raise rates? is the economy plowing through that like 1998? if it is, the market will make the bed, that the fed has to go higher, not lower. >> do you agree? lisa: i totally agree with bob. thinking back to your comments about the president talking about maybe the fed should not hike rates at this time. for corporate america, they are not feeling the pinch of higher rates. it is in a way disconnected. the levels they are able to access the investment grade market remain incredibly attractive. jonathan: let's come full circle. do you think the president has a point? that the federal reserve should slow down? bob: this is the most pro-growth administration anyone can remember since the reagan administration.
so he wants ample liquidity and low-cost funding. so he is going to argue for that. but it does tell you that he is focused on growth, growth, growth. jonathan: i have to put you on the spot. do you agree with him? bob: no, i don't. i think the fed is leaning into it for real. the last two and a half years, they have been trying to get to normal. we are going to see gdp print in the next couple of weeks with a four handle on it. and we have inflation, core at is 2%. cpi is 2.9. that is above the 2% margin. jonathan: thank you to bob and lisa. great to catch up with you. coming up on the program, we will stick right here at jpmorgan management -- asset management hq. joining us will be diana amoa to talk emerging markets. that is coming up next. this is "bloomberg real yield." ♪
♪ jonathan: i'm jonathan ferro. this is "bloomberg real yield." we are live from j.p. morgan asset management. over to china we go, where chinese markets ended the week on stronger footing. the yuan reversing an earlier slump spurred by the central move to weaken- daily currency fixing, the most since 2016. joining me to discuss china and emerging markets is a diana amoa, senior portfolio manager involved with emerging markets debt at jpmorgan, and still with me is bob michele. always good to catch up with you. your thoughts on china, and whether you have a handle on what is happening with the pboc
and currency policy, and the things that have changed in the last couple of months? diana: what the chinese are doing is the right response. what we have seen is they stepped back from the currency. they are willing to let the market determine where the currency levels trade. -- themy they were stronger, but they are willing to see where the market is pricing it. that is the right response, it could likely be a growth shock. for the pboc it is the right thing. today we saw announcements they will allow some banks to invest in loans again, and an easing of some regulations. again trying to redirect bitquidity and loosen a domestic liquidity conditions. as far as china goes, the right response. we think they are doing the right thing. jonathan: there are many ways to look at the chinese currency. you can look at it against the u.s. dollar in a vacuum, or in the basket. as you look at those two things right now, what kind of story do
you see? diana: i think versus the dollar, the currency is trading roughly where we think fair value is. when you look at it in the dust versus -- versus the basket, value has been depreciated. especially when you look at euro and some asian currencies. that makes sense. when you think about it the , trade impact right now is going more toward asia. we do expect a bit more weakness coming into the basket. -- coming in versus the basket. i think the u.s. is a tough call. we just had bob and lisa discussing what the u.s. policy response is and the president pushing back. -- back against the strong dollar. i think that is a harder call. jonathan: from 2017 into 2018, do you worry about a slowdown in china? what it ultimately means for global growth? bob: certainly if the tariffs escalated to a full-blown trade war, i would be concerned. i think we went through a
typical q1 slowdown and we will see a real acceleration. when you look at what is going on in china and what the policymakers are doing, this is the frustration you are seeing in the administration in the u.s. they look at the tariffs and talk about levying, and they see chinese policymakers making accommodation for that, relaxing policy. if you are the administration, you're looking at a central bank -- your own central bank actually continuing to tighten rather than trying to accommodate the reverse tariffs. jonathan: for many it is a global story. global growth is dispersed. as someone managing e.m. debt, are you looking at more on the asia becauseis ex- of the trade story? diana: exactly. we think the impact for tariffs will be disproportionately heavy on asia. we are steering clear of the region until we get more clarity on where the trade tensions are going. we like latin america. a lot of value has been created. plus, we are getting past the
election cycle. we had columbia, and mexico had the elections. brazil is getting closer to the point, but markets have enough premium. jonathan: local dollar? -- local or dollar denominated? diana: local, but very select. so pick your spots. jonathan: china has had its problems. policy mistakes and central banks struggling to regain credibility. brazil also having a bit of a stumble as well. why latin america for you guys at the moment? bob: i think there are a number of things. when i think about being a crossover investor in emerging markets, diana is right. i need a big bottle of antacid to get in and invest. but there are attractive things about latin america. currencies look oversold. the dollar is not going to go up forever. some of our models tell us it will flatten out. when you look at real yield, the u.s. is struggling to restore real yields to its government bond market. they are readily abundant across latin america.
so if we get a bit of stabilization, we expect money to recycle back into the the external, both and local markets. jonathan: the question for jpmorgan asset management, the very nature of this conversation talking regionally, not local securities. how important is it to be active in that space right now? diana: extremely important. so there is the security selection or regional selection that you get with the latin -- with an asset manager. ,ut ultimately as it progresses you will have safety tightening and liquidity will have to be a factor. what we have seen in the past cycle, the asset -- passive managers have struggled managing some of the flows coming in and out of the sector, where active positioning allows you to manage liquidity much better. at this point in the cycle, go to an active manager. jonathan: is that a pitch from j.p. morgan today? diana amoa and bob michele, you
are sticking with me. we are going to check on treasury through the week. closing out last week with a yield curve, but it was flat at about 25 basis point. today we steepen. into the close of the week a , steeper curve, very slightly through the end of the week. next up, the final spread, the week ahead. featuring a decision from the ecb and mario draghi. this is "bloomberg real yield." ♪
♪ jonathan: i'm jonathan ferro. this is "bloomberg real yield." we are live from jpmorgan asset management this week. it is time for the final spread. in the next week, a rate decision from the european central bank, plus you have a g20 weekend meeting of finance ministers. another round of earnings including european banks and
fintech. and a latest reading on u.s. gdp. i am joined by bob michele. he is global head of fixed income. i want to go over your for conviction trades. do you believe the federal moreve will raise four times and then close? bob: absolutely. that brings the fed fund rate to 2.75% to 3% depending where inflation is. that is a real yield of about 0.5% to 1%. that is still generous by historic fed terms, but not overly accommodative. they will have raised rates for 3.5 years. why not step back and see what other central banks are doing and also see how the economy is doing a year on? jonathan: and to wait it out. that takes me to the second conviction call, duration. bob: we are bearish. as the fed raises rates and supply hits the market and quantitative easing switches to quantitative tightening, yields will drift higher across the curve.
so short securitized credit, for example. -- we want to hide in the front end of the curve. credit forcuritized example. jonathan: do you see that more pronounced in europe or in the united states? bob: i think more in the u.s., frankly. i think people will have to adjust to what the curve looks like in a growing america. i think you will see the fed, it is a new fed, get its feet under itself. the market will have to interpret that a year from now. jonathan: that takes us to the spread between europe and the united states. not bonds-treasuries. u.s. high-yield and european high-yield, will they narrow and spread in the coming year, and from which direction and why? bob: both look great. if we look at u.s. high-yield, it has traded in a range of 330 to 380 since february. we are kind of in the middle of that range. as lisa pointed out, there is a tremendous tailwind coming to
corporate earnings. that will be reflected in better credit quality. of cycle u.s. high-yield tends to go to 300 over. i think there is at least 50 to 60 basis points of tightening. we have european high-yield at a 4% handle. but europe looks good. you have an accommodative central bank, you have them buying investment-grade corporates. money will spill over to the european high-yield market. we expect yields to go to 3%. jonathan: should we get to the elephant in the building? your boss on a higher floor, talked about companies this week -- zombie companies this week in european high-yield. what is the thinking? bob: it is a reflection of looking at european central banks and trying to understand why they continue to print money and invest in corporate debt. they don't need to do that, and you want to be careful not to entrench bad practices in corporate behavior across europe.
so i think it is a valid warning, and i think the ecb will be sensitive to that. so our expectation is at next week's meeting, you will hear more clarity on what the plan for normalization looks like. and by the way, they cannot be happy with their last meeting, when they talked about not raising rates until the end of next summer, and then seeing a rally. jonathan: i am going to what i consider a big call. is that a soft call? bob: it is 3.5% to 4%. but i take your point. i like the 4% call. corporate america is growing again, we are not in a time of secular stagnation. the fed is scrambling despite the demonstration -- the administration to get something that looks normal. credit is readily available, and you are seeing companies in the early stages of accessing it. wait until they deploy it, wait until we see what goes looks
like a year from now. jonathan: typically, i get a list of thoughts from my guess when i arrived to work on a friday morning. i got a list of thoughts from my guests and the fifth call was nothing to do with markets. it just said, support liverpool and nothing else. bob: we are ready. we have the brazilian keeper. jonathan: you have more conviction about that than the treasury market? bob: equal conviction. jonathan: there you go. bob michele, j.p. morgan, thank you very much. bob: thank you. jonathan: our thanks to bob. from new york, that does it for us and we will see you next week. from new york, this was "bloomberg real yield." this is bloomberg tv. ♪
♪ alix: commodities in crisis. alcoa cutting its product -- 2018 profit forecast, the latest victim in president trump's trade battle. we talk about china's rising lng demands and how it can absorb the junk in u.s. exports. ♪ alix: i'm alix steel. welcome to bloomberg "commodities edge." it is 30 minutes of focused on the company's ph